Alan Greenspan in his February 15, 2006, report to Congress stated that the current savings rate in the U.S. is 1.4 %, the lowest since 1938. He went on to say that people were relying on the growth of the equity in their homes to increase their net worth. But much of this equity is being borrowed out as homeowners use their home equity as an ATM machine to finance other large purchases, according to Greenspan. This issue was reinforced by a lead article on October 2, 2006, in the Wall Street Journal which pointed out that home equities are being borrowed out at the rate of $497 billion per year.
The forgoing has not escaped the notice of bank regulators, who have expressed concern that as home values have started to drop, aggressive banks may have overextended their home loans and may face a substantial increase in foreclosure.
I also wonder if all this is not an unintended result of the tax reform act a few years ago when the personal interest deduction was eliminated. The availability of an interest deduction on home and home equity loans is obviously providing an incentive for people to collateralize personal loans with their home. The home is a place where one should build equity for future use – not to fuel expensive spending habits today. Much concern is being raised about the difficulties of facing retirement with insufficient income. A home debt free should be a critical goal for retirees–not one hocked to the gills.
Despite all of the attention given to the subject of financial planning, and despite tax incentives such as IRA’S, 401(K)’s and other tax favored plans, not much has been done to increase our savings rate.
Perhaps a couple of observations may help to explain this. For one thing, it seems to me that most of the people giving financial advice are targeting people who have already accumulated significant wealth. Some financial services, in their ads, make it clear that they are only interested in offering their services to people with marketable net assets of $1 million to $3 million. New people coming into our business are required in most cases to obtain some very sophisticated licenses. Naturally, they want to work in the area where those licenses are required: the top of the economic pyramid. Nobody is paying attention to the broader market down from the top of the pyramid–and these are the people who need help the most.
The gold rush mentality, which led us to the stock market bubble and staggering losses and now to a potential housing bubble, is not a reliable road to wealth accumulation. A disciplined routine of savings, while slower, is a much surer way to acquire financial security when you have no base to start from–the condition of most people. So the question is, “How do I accumulate enough assets to become attractive, as a client, to those selling financial advice?”
Historically, permanent cash value life insurance has been one of the most reliable mechanisms, with its “double duty” dollars. One of the most powerful concepts that I know of is the “Create and Save” theory versus the “Save and Create” theory of accumulation. With the stroke of a pen one can create an estate, then as the policy cash values build up, a disciplined savings plan unfolds. The save and create approach does not have benefit of an estate for the heirs until many years into the future. Double duty dollars work well for the people who want to climb the “economic pyramid.”
Some very prominent cases have, over the years, proven the validity of life insurance as a discipline savings mechanism. The most successful of our local ready-to-wear retailers started his business years ago with $1,500 borrowed from his life insurance policies. Roe Bartle, legendary former mayor of Kansas City, credited the availability of policy loans with saving his 5 banks, which were closed during the “bank holiday” of the 1930′s. He has said no other line of credit was available, and without cash values he had built up over the years, he would have been bankrupt. A local steel fabricator, a policyholder of mine, saved his warehouse business from bankruptcy using policy cash values accumulated over a 30-year period. Walt Disney is reported to have borrowed heavily on his life insurance to build Disneyland. Life insurance policy cash values can be an often an opportunity fund. They are a system which creates wealth and prevents poverty simultaneously.
One of the great threats to cash value life insurance occurred about 30 years ago, when interest rates spiked to around 20%. Insurance companies with most of their assets callable at 5% and 6% were very worried. But the worst disintermediation that was feared did not happen. Research at the time with focus groups of whole life policyholders revealed very little borrowing for the purpose of leveraging. Those who borrowed did so because of high borrowing rates elsewhere. Research also suggested that policyholders viewed their cash values as sacrosanct — only there if all else failed.
When you save in a disciplined fashion over a long period of time, a high value is placed on the utility of such funds.
It is time we reclaim our role as champions of disciplined saving.